the IRS has abandoned the victory it had
won before the U.S. Supreme Court:
Nor does the failure to file a claim
represent the type of “extremely
remote and speculative possiblity”
that we held in Hughes, 476 U.S.at
601, did not render an otherwise
fixed liability contingent.
Consistent with the old adage that
times change, it may be realistic that the
filing of the claim is far less remote and
speculative when the obligation is owed
directly to a third party that is in the
business of providing such services and
filing such claims. Logic might suggest
that the likelihood of an employee failing
to file a claim greatly exceeds the likelihood of a doctor failing to file a claim.
The IRS now allows the accrual without funding of the portion of IBNR that
will be paid to third parties if it otherwise
satisfies the requirements spelled out in
Revenue Procedure 2008-52. In almost
every case, this will be 90 percent or
more of IBNR. An accrual taxpayer still
can’t accrue all IBNR, however, and must
forgo the deduction for the employee reimbursement portion unless that portion
is contributed to a trust fund by the end
of the taxable year. To take full advantage
of this new rule, the actuary must do two
separate IBNR estimates.
As if this weren’t strange enough,
the IRS qualified any applicability to
manufacturers, wholesalers, retailers, or
businesses engaged in making, buying,
or selling goods. Those taxpayers must
capitalize certain costs under Section
263A rather than treat them as deductible expenses.
We don’t know why the IRS allowed
this chang,e and we have doubts that it
can overrule the Supreme Court this way
without a change in the law. But we’ll
leave that part of the discussion to constitutional scholars. The practical matter
is this: The IRS will allow an accrual taxpayer in a service business to deduct part
of the IBNR without funding it.
Who’s going to challenge it? The
answer seems to be that nobody has legal
standing to challenge such a ruling. As a
practical matter, it can only be changed
by an act of Congress or the IRS itself.
in the wake of September 2008
Before Sept. 8, 2008, we saw no basis for
an accrual taxpayer to deduct IBNR for
any taxable year before the year in which
it was paid to some fund. On and after
that date this remains our conclusion
for the portion consisting of employee
reimbursements and for taxpayers who
are required by Rev. Proc. 2008-52 to
capitalize all or part of IBNR.
Others may have disagreed with us before September 2008. In fact, we’ve heard
of practitioners rendering such advice, albeit as hearsay. But we can’t fully assess
what their counterarguments might have
been (beyond what we have speculated)
because we’ve found nothing contrary
(except for an April 13, 2009, Deloitte
Washington Bulletin, published after the
release of Rev. Proc. 2008-52). We attempted to construct a hypothetical opposing
position but could conclude only that the
accrual camp’s position was highly suspect
and subject to IRS attack. At a minimum,
contributing IBNR to a fund by the end of
the taxable year in which it arises was at
that point the only safe approach for ensuring an earlier deduction of all IBNR.
Health and welfare plan sponsors
should work closely with their accountants to ensure compliance with the IRC.
Accrual taxpayers need to pay special attention to Rev. Proc. 2008-52. IBNR can
affect materially the balance sheet and
full advantage of its deductibility should
be taken. But what kind of fund can be
used to deduct the part of IBNR that
cannot be accrued?
According to the IRC, the part of IBNR
that reflects employee reimbursements
must be paid to a welfare benefit fund by
the last day of the taxable year for which
it’s deductible. Section 419(e)( 3) and the
applicable regulations define fund as any
organization exempt from tax under
Sections 501(c)( 7), ( 9), ( 17), or ( 20), any
taxable trust or taxable corporation not
exempt from federal income tax, or certain
arrangements with insurance companies.
Assets that are identified to a plan must
be held in trust. While the broader definition of fund that’s used in the IRC might
permit deductibility of amounts paid to
other types of funds, a plan will not be in
compliance with ERISA’s requirements
unless that fund is a trust. As a practical
